The Downsides of Increasing Minimum Wage

If the minimum wage exceeds the prevailing market wage, some workers face the strong possibility of losing their jobs or having their hours reduced.

Columns Post: 5/19/2014

Todd Palmer

President, Diversified Industrial Staffing

An increase to the minimum wage won’t help workers in the long run.

There has been a lot of noise lately in Washington, D.C. about the potential raise to the national minimum wage from its current rate of $7.25 per hour to either $9 or $10.10 per hour. There is a mind-set among some Americans that the minimum wage, or entry level wages, should be substantial enough for an adult head of a household to be able to support a family. That is completely unrealistic.

It seems that some Americans have lost the perspective of who is the target for minimum wage jobs, which are not meant to be career jobs. The people earning the wage are typically entry level workers—namely, younger individuals with little education and or minimal skill sets.

Furthermore, there seems to be a lack of understanding of who would ultimately pay for these suggested minimum wage increases. Most likely, it will be the minimum wage workers themselves.

It’s easy to understand why the federal policy makers would find an increase in the minimum wage so attractive. Unlike boosting welfare programs, raising the minimum wage doesn’t increase government spending. The government is passing their societal obligation of taking care of people who elected them to the business owner, while ignoring the simple business principal of Law of Demand, which says when the price of labor rises, the quantity demanded will fall (assuming other things are constant). That same law tells us that quantity demanded (for example, the number of jobs for low-skilled workers) will decrease more in the long run than in the short run, as employers switch to labor saving methods of production (automation, outsourcing overseas, improved technology), and unemployment will increase.

If the minimum wage exceeds the prevailing market wage (determined by supply and demand), some workers face the strong possibility of losing their jobs or having their hours reduced. There is abundant evidence that a 10 percent increase in the minimum wage leads to a 1 to 3 percent decrease in employment of low-skilled workers in the short run, and to a larger decrease in the long run, along with rising unemployment.

As Forbes contributor James Dorn astutely points out, “…advocates of higher minimum wages confuse cause and effect. They think a higher minimum wage causes incomes to go up for low-skilled workers and doesn’t destroy jobs. Workers are assumed to have higher wages and retain their jobs as a result of government policy — even though they have done nothing to improve their job skills. But if a worker is producing $5.15 per hour and now the employer must pay $9 per hour, there will be little incentive to retain (him or her).

There will also be little incentive to hire new workers. Without an increase in the demand for labor—that is, an increase in labor productivity because of better technology, more capital per worker, or additional education—a higher minimum wage will simply price some workers (the least productive) out of the market, and their incomes will be zero.”

An increase in the minimum wage is not a cure for poverty. Indeed, in 2005, research published in the “Journal of Human Resources” showed that the minimum wage tends to increase, not decrease, the poverty rate.

Politicians promise low-skilled employees a higher wage, but that promise cannot be kept if manufacturers cannot profit from retaining those employees or hiring similar employees. Jobs will be lost, not created; and unemployment will rise as more workers search for jobs, but can’t find any at the above-market wage. If the minimum wage increase cuts into profits too deeply, the hiring of low-wage workers will be more expensive compared with other investments, such as new machinery or improved technology. Manufacturers could further reduce their head count of low-wage workers and shift their spending toward other non-human revenue producing programs, such as automated systems.

Instead of forcing a minimum wage increase, the federal government should consider methods and programs that allow the low-skilled workers to improve their skill sets, making them more desirable in the workforce.